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Business News/ Market / Mark-to-market/  HCL Technologies margin surprise not sustainable
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HCL Technologies margin surprise not sustainable

Wage hike and continued investment in business will not leave HCL Tech with much headroom for margin growth

HCL Tech has also signed over $1 billion worth of deals in the quarter and management commentary was bullish on growth prospects. Photo: Ramesh Pathania/MintPremium
HCL Tech has also signed over $1 billion worth of deals in the quarter and management commentary was bullish on growth prospects. Photo: Ramesh Pathania/Mint

Although HCL Technologies Ltd has been the best-performing first-tier technology stock in the past year, there was a niggling fear among analysts that it was turning into a margin-fixated company. Those fears would have been reinforced with the March quarter numbers but for the company’s reassurance that it is going to invest heavily for future growth, and the 3% quarter-on-quarter rise in revenues.

The March quarter earnings before interest and tax (Ebit) margin number was a surprise 24.6%, up 90 basis points from a quarter ago. One basis point is one-hundredth of a percentage point. The Street wisdom was that HCL Tech would see Ebit margins shrink owing to the rising rupee. But the company was able to sidestep that by further clamping down on selling, general and administrative (SG&A) expenses. As a proportion of revenue, SG&A expenses were 12.1% in March compared with 13.9% a year ago and 12.44% in the December quarter.

Secondly, the HCL Tech management attributed the rise in margins to the fact that most contracts had entered their steady state—a time when not much investments are required. Note also that the share of revenues from managed services and fixed price projects was 55.7%, a rise from the December quarter and the year-ago period numbers. The company also maintained its high employee utilization rate of above 84%. Net hiring in the March quarter at 1,858 was not much higher than in the three months ended December.

The flip side of these numbers is that HCL Tech may not have much headroom left for margin growth. Wage hikes are in the offing in the next couple of quarters. In any case, the company has said that in the medium term it was shooting for a 20-21% Ebit margin. The company will continue investing in the business and margins will moderate, though slowly, chief financial officer Anil Chanana said.

The other striking thing in HCL Tech’s numbers was increasing growth rate in software services. While infrastructure services, the main growth driver for the company in the past couple of years, grew 5.1% from a quarter ago, software services grew a creditable 2.9%. This was on top of a 2.4% growth in the December quarter and should assuage some Street concerns.

HCL Tech has also signed over $1 billion worth of deals in the quarter and management commentary was bullish on growth prospects, as seen in the case of Tata Consultancy Services Ltd (TCS). This kind of growth should maintain investor interest in the stock even if margins decline.

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Published: 17 Apr 2014, 08:17 PM IST
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